Why haven't consumers responded to the unprecedented drop in interest rates as they did in earlier periods of rate declines? Economist Robert Brusca of Nikko Securities Co. thinks one reason is that aftertax inflation-adjusted interest costs to consumers are actually at historically high levels.
Brusca notes that, aside from the decline in inflation, two tax changes have raised real loan costs for consumers: the phase-out of interest deductions except for mortgage interest, and the reduction in marginal tax rates, which has cut the value of mortgage interest deductions. By factoring in inflation plus these changes, Brusca is able to compare current real interest costs for mortgages, credit-card borrowing, and auto loans with their levels in past decades.
Although mortgage interest costs come off best in Bruscas analysis because they remain deductible, they're still high by historic standards. For those in the top marginal tax bracket, Brusca calculates that real mortgage rates are now running at about 2.7%, compared with 2.8% in the 1986-90 period and an average of 0.7% from 1966 through 1990. For those in the median tax bracket, the real mortgage rate is about 3.7%, higher than the 1966-90 average of 1.9% but below the average 4.6% rate of the 1980s.
Credit-card costs and auto loan rates, on the other hand, are now at historically high levels for all taxpayers. Credit-card loans are costing consumers about 15.6% in real terms, figures Brusca, compared with an average 3.7% for top-bracket taxpayers in the 1966-90 period and an average 7.6% for median-bracket borrowers. And auto loan rates are running about 7.3% in real terms, far above prior averages of 0.4% and 3.2% for top and median-bracket borrowers. "Compared to earlier periods," says Brusca, today's real interest burden is causing consumers intense pain.